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Although the war in Iraq has adversely affected consumer and business confidence, the greater risk to global recovery continues to lie with imbalances within and between the world's major economies, asserted international rating agency Fitch Ratings in its latest semi-annual review of the world economy, ‘Sovereign Review: Spring 2003’.

The agency now expects the world economy to grow by just two percent this year, barely changed from 2002, due to the worsening outlook for both the US and the euro area, which has prompted it to revise downwards three-quarters of the 84 individual country forecasts that feed into its global economic projections.

Fitch says that with very weak domestic demand in Japan and the euro area, global growth once again depends largely on the overstretched US consumer. Yet recent data suggest that US economic recovery may have stalled—Fitch has cut its US growth forecast for 2003 to two percent from 2.4 percent—as consumers and businesses alike struggle to rebuild their financial positions.

The agency puts little faith in additional fiscal and monetary easing to support growth, which, it says, would risk a further widening of the already sizeable current account deficit and a weakening of the dollar.

Rebalancing the US and the global economy is complicated by the poor performance of the euro area economies. The outlook for Western Europe has taken a distinct turn for the worse. With little stimulus from monetary and fiscal policy (except in the UK), and structural reform in limbo, there is little prospect of Europe becoming an engine of global growth.

Fitch says the outlook for Germany in particular is a cause for concern: with growth forecast at just 0.6 percent this year, adverse shocks and policy mistakes could easily push it into recession and deflation.

The Sovereign Review shows how the global economic downturn and weakening political commitment have eclipsed the era of fiscal consolidation that characterized the 1990s across most of the industrialized world.

In the space of just three years, the US has gone from a general government surplus of 1.5 percent to a projected deficit of 4.3 percent in 2003, UK public finances have weakened by around four percent of Gross Domestic Product (GDP).

Japan's deficit remains at an unsustainable seven percent of GDP and in 2002 Germany and France both breached the euro area's Stability and Growth Pact budget deficit limit of three percent of GDP. With public debt levels on the rise virtually everywhere, there is much less scope now to engage in discretionary fiscal easing.

Among the emerging economies, Fitch notes that Asia continues to post the highest regional growth rates, but the weakness of the global economy, heightened geopolitical tensions and the SARs outbreak point to a difficult year ahead.

At the opposite end of the spectrum, the economic and credit outlook for Latin America remains very fragile, accentuated by fiscal and political pressures. Turkey, too, faces a very uncertain outlook.